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Decoupling of the Emerging Markets?

We all perhaps remember this old saying “When US sneezes, the rest of world catches a cold”. This is because United States is the biggest economy in the whole world. Even the emerging markets (EMs) and prominently BRIC nations’ combined GDP is only 60% that of the US. For a long time the emerging economies (which are mostly export oriented) have depended heavily on the consumption behavior of the US. Hence to analyze whether the decoupling has happened, we need to explore how these EMs have grown in the last decade with respect to the US economy. It would be unfair if we do not analyze financial (investment) and business (trade) decoupling separately.

The US has grown very slowly(~2-3%), EMs have seen a high growth rate (~7-9%) in the last three decades. Also, EMs share of world’s growth have grown significantly; Last year BRICs accounted for over two-third of global GDP growth. Let’s take a look at the export between EMs and the US. Though their exports to America have stumbled, those to other emerging economies have surged. For example China's growth in exports to America slowed to only 5% (in dollar terms) in the previous year, but exports to Brazil, India and Russia were up by more than 60%, and those to oil exporters by 45%. Half of China's exports now go to other emerging economies. Likewise, South Korea's exports to the United States tumbled by 20% in the year to February, but its total exports rose by 20%, thanks to trade with other developing nations. Second sign of business decoupling can be seen in the crude prices. Earlier, crude and other commodities prices were linked to the demand in the US. However, today even though demand has gone down in the US, prices are still high because of growing demands and consumption in these EMs. One of the reasons for this is tremendous increase in local consumption and investments. These EMs are building more power plants, constructing new highways and skyscrapers and other infrastructure projects, pushing up demand and inter EMs trade opportunities.

The above fact is supported by a study done by IMF. It shows that 1 percentage point increase in the annual growth of industrial countries corresponds to 0.76 percentage points increase during 1960-1985 while only 0.34 percentage points increase during 1986-2007 in the growth rate of the group of emerging economies. Hence, with globalization these economies has

So, what about financial decoupling? Recently we saw how the sub-prime crisis caused immense turbulence in the stock markets right from the US to EMs, which witnessed heavy selling by the US based financial institutions due to the change in risk behavior of investors. The credit monster has hurt both the US and EMs financial markets. Even in the past, when EMs were net foreign borrowers, capital inflows tended to dry up during global downturns as foreign investors shunned risky assets. It appears as if the financial decoupling is still not as strong as the business decoupling. However, these economies now have much better monetary and fiscal policies to protect their economies from the fallout.

Thus, the old saying still remains “When US sneezes, the rest of world catches a cold” relevant but extremely limited in magnitude. I won’t say that decoupling is fully complete; it may take a decade or so to restrict US flu to its premises, without spreading cold elsewhere.